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The Single Most Bullish Indicator For Oil

Crude futures saw some headwinds…

Vanand Meliksetian

Vanand Meliksetian

Vanand Meliksetian is an energy and utilities consultant who has worked with several major international energy companies. He has an LL.M. from VU Amsterdam University…

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Staggering Demand Growth Could End Price Control In Oil Markets

Energy security is, without doubt, one of the most critical topics policymakers and professionals are concerned with. However, producers and consumers add a different meaning to these two words: the latter interprets ‘energy security’ as the stable supply of sufficient energy, the former view it as the maximization of profit. The relative concentration of the world’s oil reserves in several regions has created a dependency on oil revenue which has been dubbed ‘the resource curse’: the paradox of plenty where an abundance of resources leads to inefficiency and slow economic growth.

Rapid changing oil prices can have serious consequences for countries strongly dependent on oil. Therefore, the Organization of Petroleum Exporting Countries, or OPEC, was founded in 1960. Its mission is not to raise prices to unreasonable heights but to "ensure the stabilization of oil markets in order to secure an efficient, economic and regular supply of petroleum to consumers". Despite OPEC's recent success in stabilizing and raising prices in collaboration with Russia, the world's oil markets are facing an imminent threat by the simple economic rationale of supply and demand.

(Click to enlarge)

The world’s insatiable thirst for oil has pushed demand upwards over the past decades. Global consumption of crude is approaching a whopping 100 million barrels per day which is more than twice what it was 50 years ago. Furthermore, demand has been growing by approximately 1.5 percent a year. The relentless growth has justified massive investments in the oil industry. The energy sector has been built with more than $10 trillion of investor capital.

The production of oil requires significant time and capital investment before the rewards can be reaped. The depletion of wells requires the constant drilling of new ones to offset lost production. Until now, the global oil industry has been able to meet demand. However, technological and political developments could stir up the fundamentals of the oil market meaning supply and demand can no longer be aligned and prices stabilized. It also leads to producers having to supply a shrinking customer base, increasing competition and decreasing revenue. Due to plateauing demand, producers might not be able to give direction to crude prices any longer, which could impact the final investment decisions for projects with decade-long investment
cycles. Related: Survey: Experts See Brent Oil Price In The $60s In 2019

According to some analysts, global demand growth will decrease significantly during the coming years until it reaches a point where profitability is affected and thus the industry's ability to impact prices. Restrictions on single-use plastics are one area which could affect production. Citi noted in a report that countries across the globe are raising barriers. One example of this is China’s decision to stop the import of plastic waste. The European Union has also decided to restrict the use of plastic. McKinsey & Co. estimates that recycling and substitution of biomaterials could shave 2.5 million b/d off by 2035. Also, 60 percent of plastics used by 2050 could come from production based on previously used materials.

Another area that could affect the demand for oil is the global transportation sector. BP projects that rising populism and tariff wars could significantly harm trade activities and the global economy. In its “Less Globalization” scenario, BP predicts that economic expansion would lag about 6 percent compared with a business as usual projection for 2040, translating into approximately 2 percent lower oil demand. This estimate could prove optimistic, since next-generation manufacturing technologies, expanded use of optimization programs for logistics, and increased use of alternative fuels in trucks and delivery vehicles could bring much more substantial changes in oil use for aviation, shipping, and on-road freight.

Policies concerning proposed bans on new sales of internal combustion engine cars by 2040 in Europe and the ongoing discussion in China and India do follow suit could shave another 5 million b/d from future oil demand if implemented broadly. Policies that promote alternative sources of energy for buses and trucks, such as electricity and hydrogen could also significantly curb oil consumption. Related: U.S. Will Soon Export More Oil, Liquids Than Saudi Arabia

The future of the oil industry will largely depend on how investors and producers will manage their portfolio. The expected development of prices will determine investment decisions and thus production. This could somewhat alleviate the situation for traditional suppliers with low costs such as Middle Eastern producers as more capital intensive production such as Arctic, ultra-deepwater drilling and shale would be shelved first. Regardless of mitigating factors, long-term political and economic developments don't seem to be in favor of the oil industry.

By Vanand Meliksetian for Oilprice.com

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  • Mamdouh Salameh on March 07 2019 said:
    The drift of the article seems to suggest a post-oil era and a peak of global oil demand leading to producers having to supply a shrinking market and being unable to influence oil prices any longer and an oil industry at the mercy of investors’ decisions.

    However, there will neither be a post-oil era throughout the 21st century and far beyond nor a peak oil demand and I will explain why.

    There could never be a post-oil era because it is very doubtful that an alternative as versatile and practicable as oil, particularly in transport, could totally replace oil in the next 100 years and beyond. What will change is some aspects of the multi-uses of oil in transport, electricity generation and water desalination which will eventually be mostly powered by solar energy. However, oil will continue to be used extensively in the global petrochemical industry and other industries and outlets from pharmaceuticals to plastics, aviation and computers to agriculture which can’t continue to feed 8 billion people without oil and also in transport in most of the developing countries. Oil will continue to reign supreme throughout the 21st century and far beyond.

    And while restrictions on the use of plastics and recycling could shave off an estimated 2.5 million barrels of oil a day (mbd) by 2035, a growing global demand for petrochemicals could raise the petrochemical industry’s demand for oil from 14 mbd currently to 26 mbd by 2040.

    Global oil demand will never peak throughout the 21st century and far beyond because electric vehicles (EVs) will never be able to replace oil in global transport. They will only decelerate demand.

    Even the introduction of 350 million EVs by 2040 which is an impossibility will only displace 9% of oil used in global transport or 11mbd out of 120 mbd used by then.

    It is a valid economic principle that oil producers and investors should always aim to maximize the return on their assets and investments. If there will be neither a post-oil era nor a peak oil demand, it follows that investors will look for opportunities in the most profitable outlets in the world. The global oil industry is and will continue to be the most profitable industry for the foreseeable future. It also follows that OPEC will continue to be in a position not only to play a major role in determining the oil price but also to stabilize the global oil market and prices as well.

    Dr Mamdouh G Salameh
    International Oil Economist
    Visiting Professor of Energy Economics at ESCP Europe Business School, London

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